New York AG triples fraud loss claim against Digital Currency Group to $3 billion

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Digital Currency Group’s (DCG) liability in its New York legal case has increased significantly, raising further doubts about the future of Barry Silbert’s shaky ‘crypto’ empire.

On February 9, New York Attorney General (NYAG) Letitia James filed an amended complaint in its lawsuit alleging that DCG, its now-bankrupt Genesis Global Capital
subsidiary, and rival digital asset lender Gemini Trust Company defrauded their customers and investors. James says the total losses caused by the companies’ misrepresentations are now over $3 billion, triple the losses cited in the NYAG’s original complaint filed last October after more investors came forward.

The complaint was based on the accounting sleight-of-hand that DCG and Genesis used to mask crippling losses following the mid-2022 collapse of the Three Arrows Capital (3AC) ‘crypto’ hedge fund, to which Genesis had lent billions of dollars. The deceit was fully exposed following the November 2022 collapse of the FTX exchange and its affiliated market-maker Alameda Research, which had also borrowed heavily from Genesis.

Gemini, the exchange/lender run by Cameron and Tyler Winklevoss, had lent Genesis over a billion dollars worth of its Gemini Earn customers’ digital assets to earn a higher rate of return for users of the Earn platform.

Gemini continued to redirect millions’ worth of Earn customer assets to Genesis right up until the latter suspended withdrawals on November 16. Gemini did this despite having been aware over a year earlier that Genesis was so highly leveraged it could barely cover its short-term obligations.

Meanwhile, DCG was using its Genesis subsidiary as a piggy bank to cover its own fiscal shortcomings. When Genesis developed a ‘structural hole’ in its finances post-3AC, DCG papered this over by giving Genesis an illiquid $1.1 billion promissory note with a 1% interest rate and a decade-long repayment period. The NYAG says the promissory note “concealed those losses on Genesis Capital’s balance sheet but did not replace the lost open-term assets.”

Throughout, the NYAG says both Genesis and DCG made private and public statements to investors and counterparties that were “false, misleading, and omitted material information.” When Genesis finally filed for bankruptcy, it owed 232,000 Earn investors over $1 billion, while dozens of direct investors were owed more than $2 billion in tokens and U.S. dollars.

In a statement accompanying the amended complaint, James said, “DCG was lying to investors and defrauding them out of billions. The fraud and deceit were so expansive that many additional people have come forward to report similar harm … the horrific financial losses that real people have suffered are yet another reminder of why stronger cryptocurrency regulations are needed.”

DCG pushed back on James’ claims, saying the amended complaint contained “nothing new” but was simply “the same baseless complaint recirculated to generate another round of press headlines.” DCG went on to claim that it “has always conducted its business lawfully and with integrity,” because hey, when you’re in a deep hole of denial, you keep digging, right? Right?

Revelations by Genesis

In January 2023, Genesis and Gemini were sued by the U.S. Securities and Exchange Commission (SEC) for offering unregistered securities to the public via Gemini’s Earn program. On January 31 of this year, following “extensive negotiations,” Genesis agreed to pay a $21 million penalty to resolve this suit and spare Genesis creditors from footing the hefty legal bill that would result from continuing to oppose the SEC’s allegations.

The NYAG’s amended complaint was filed just one day after Genesis filed papers with its bankruptcy overseers seeking court approval of a settlement it reached with the NYAG’s office. The proposed settlement, which was agreed to by the creditors committee currently running what’s left of Genesis, was scheduled to be considered by the bankruptcy judge on February 14.

The February 8 settlement called for the NYAG to be treated pari passu, aka on an ‘equal footing’ with the SEC’s Genesis settlement. The NYAG agreed to receive any payments from Genesis “if and only if all general unsecured creditors of the Debtors are made whole.” In other words, “NYAG has agreed not to assert any penalties that would be retained by NYAG and not shared with creditors.”

Earlier in January, an $8 million deal was reached to resolve a suit brought by the New York Department of Financial Services (NYDFS) against Genesis Global Trading, yet another DCG subsidiary. The NYDFS accused this Genesis of a number of regulatory violations, including failure to adhere to anti-money laundering (AML) protocols and file suspicious activity reports.

As part of this deal, Genesis agreed to surrender its NYDFS-issued BitLicense to operate a digital asset business in the state of New York. NYDFS Superintendent Adrienne A. Harris said Genesis had “demonstrated a disregard for the Department’s regulatory requirements and exposed the company and its customers to potential threats.”

DCG to Genesis: stop stealing our stolen cash

While Genesis inches its way out of bankruptcy, DCG filed papers with the U.S. Bankruptcy Court in the Southern District of New York on February 6, objecting to the latest plan for reconnecting creditors with their cash. Specifically, DCG finds fault with the Genesis committee’s proposal to grant certain creditors “all the upside from” the surge in token values that took place in the year since Genesis filed for bankruptcy.

DCG says the amended plan proposed by Genesis “was the product of a clandestine process” from which DCG was “deliberately excluded.” Certain creditors and the group currently overseeing Genesis “helped themselves … all at the expense of DCG.”

DCG argues that the plan would violate the Bankruptcy Code by unjustly enriching a select group of unspecified (redacted in court filings) creditors. DCG claims these select creditors would receive “hundreds of millions of dollars more” than they would have received had Genesis agreed to pay them based on the token price at the time it filed for bankruptcy protection.

DCG claims this plan is “to the disadvantage of all other creditors” because “certain creditors will be paid a premium, while equity holders receive nothing.” Since DCG is the sole equity holder here, there’s some rather naked self-interest in its claim that the amended plan “is not a fair settlement among interested parties.”

Genesis recently asked the court’s permission to sell nearly $1.4 billion worth of its shares of GBTC, the BTC spot-based exchange-traded fund (ETF) run by yet another DCG subsidiary, Grayscale Investments. Genesis also wants to unload $170 million worth of shares in the Grayscale Ethereum Trust plus another $38 million held in the Grayscale Ethereum Classic Trust. Genesis believes the proceeds of these share sales will go a long way toward satisfying its obligations to creditors.

Grayscale is the only DCG division still capable of turning a significant profit, so perhaps it’s not surprising that DCG argued in a February 9 filing that “there appears to be no immediate need” for the sale of this $1.6 billion in Grayscale shares. DCG asked the court to postpone any sale until it rules on the amended Genesis plan described above.

The future’s so bright, Barry’s gotta wear stripes

Meanwhile, DCG is doing its best to convince its shareholders that things are just peachy. Monday saw DCG issue a fiscal update to its investors, in which it claimed surging token prices allowed it to finish 2023 in the black.

DCG said it generated revenues of $210 million in the fourth quarter, up 59% from the same period a year earlier and 12% higher than Q3 2023. Of this sum, Grayscale contributed $156 million, while the Foundry digital asset mining business added $38 million (-22% from Q3). Earnings came in at $99 million, a significant turnaround from the $7 million loss in Q4 2022.

For the year as a whole, revenue topped $749 million (down from $813 million in 2022), and earnings grew by $14 million to $275 million. As 2023 came to a close, DCG claimed its investment portfolio—including Grayscale shares—was worth around $975 million.

Silbert’ resigned’ as Grayscale chairman the day after Christmas, possibly after too many slices of rum-soaked figgy pudding. Meanwhile, Grayscale’s GBTC continues to shed assets under management following last month’s conversion from trust to ETF, with around $6.5 billion leaving since January 11. Worse, GBTC was compelled to cut its 2% annual fees to 1.5% in the process of converting to an ETF.

There’s still over $21 billion tied up in GBTC, likely due to tax implications for sellers, but the decrease in both assets under management and the fees charged for managing those assets will have a noticeable impact on DGC’s next quarterly report. The only thing still up for debate is whether or not that report will be written on prison stationery.

Follow CoinGeek’s Crypto Crime Cartel series, which delves into the stream of groups—a from BitMEX to Binance, Bitcoin.com, Blockstream, ShapeShift, Coinbase, Ripple,
Ethereum, FTX and Tether—who have co-opted the digital asset revolution and turned the industry into a minefield for naïve (and even experienced) players in the market.